|Shares Out. (in M):||161||P/E||18.0x||15.5x|
|Market Cap (in M):||10,000||P/FCF||15.0x||13.0x|
|Net Debt (in M):||-1,000||EBIT||800||1,000|
I recommend Apollo Group as a short. Apollo is the largest for profit educational service company in the country, with its largest entity being University of Phoenix. It is funded largely (77% of revenues) by Federal Government sponsored title IX student lending. The short thesis is based largely the availability of this funding being less available to Apollo in the future, which would have a material adverse effect on their business. While this is not a certainly, I will attempt to provide some opinions that may play into this possibility.
While Apollo does provide educational benefits to some students, it is easy to question that the overall bang for the government buck is suspect. Many students after incurring $30,000 to $60,000 in debt do not find themselves much more employable than beforehand. Some companies, such as Intel, have a ban on hiring University of Phoenix graduates. You can Goggle University of Phoenix and then complaints or lawsuits and spend the rest of your day reading if you like.
The formula for Apollo's growth and increase in profitability over the past several years has been as follows: increase enrollment counselors 1000%, increase enrollment 200% while at same time, limit the faculty increase to 100%. Support this growth with an easy source of revenue-- US Government subsidized student loans, Additionally, support the counselors with a hard sell.... sales program that would make a back room wall-street boiler house stand up and take notice. Never-mind that such sales practices are illegal for institutions receiving title IX funding.
The US Department of Education under the Obama Administration may scrutinize the $2.5 billion a year in government sponsored loans going to degree granting machine such as Apollo. The new Secretary of Education, Mr. Arne Duncan, has promised to reform education. Apollo, the largest "customer" of student loans in the country has come under increased scrutiny by both the government and the legal system for its poor performance record of accomplishment and dubious practices.
The largest growth for Apollo is in its associate degree program, which grew at a rate of 33% last quarter and now totals 170,000 students, compared to 150,000 bachelor program students and 70,000 master degree students. Associate degree students default at a high rate, 27% in 2006 (most recent year for which data is available). Of associate degree students who have never attended college before, Apollo's graduation rate is 4%, (the overall graduation rate in the range of 16%). One could question the value of government money going to support this type institution of higher learning.
So why are they so successful at growing enrollment? Let's get back to that 1000% increase in enrollment counselors. There is Qui Tam lawsuit in process against Apollo. A Qui Tam lawsuit refers to a whistleblower that brings charges against someone for committing fraud against the government. It is illegal for "for profit" education companies to financial incentivize enrollment counselors for performance.
There is a large body of evidence indicating that Apollo has run a boiler room sales operation rather than counsel prospective students. Among the thousands of pages of documents you can pursue in the case include 1) those containing incentive pay schedules, 2) internal emails instructing managers to refrain from putting anything related to incentive compensation or counselor "performance" in any documentation that might be reviewed by the Department of Education audits, 3) documentation referring to counselors as salespeople, 4) memo's on how to use harassment tactics and lies to get people to enroll or to call back. The trial is currently set for March 2010.
Even pre Obama, the Bush administration, in which the highest-ranking official overseeing for profit education, Sally Stroup, was an Apollo lobbyist for eight years, had to stand up and take notice of Apollo. In fact, Apollo's Title IX eligibility certification expired in June of 2007. While Apollo currently continues to provide the Department of Education with additional information as requested, eligibility for Title IX funding has been on a month-to-month basis for the past twenty-two months. What?? 77% of Apollo's revenue, hinges on a certification that is month to month???! I could not find one other "for profit" education company on a month-to-month basis.
Besides the Qui Tam lawsuit, another item that may be raising some eyebrows at the Department of Education is a lawsuit filed in December 2008 by a group of former students who allege that regarding students that dropped out shortly after enrolling, University of Phoenix improperly returned the entire amount of student loan funds to the lender.
Why would Apollo return more money than required to the lender and try to collect the money themselves instead through collection agents and other tactics. Once explanation might be that if the loan was fully refunded, it's not a defaulted loan. Default rates are one criterion that can jeopardize an institutions Title IX accreditation. The lawsuit contends that through the above-described actions that it is trying to deceive students, the Department of Education and investors through manipulation of their reported numbers. The lawsuit states "By returning the money to the government, they are effectively prohibiting that person from being factored into the cohort default rate. This manipulation is a clear violation of the mandates of HEA".
What might the impact of these items be? I am not suggesting that no one has received an education at University of Phoenix or that it does not serve some in a useful way, but its appears by the record that greed, lack of morals and mediocrity has set in, and maybe too.. Apollo's perfect storm. Obama, lawsuits and the ongoing DOE review. All while management cashes hundred millions in stock. Are they telling us something?
The current stock price is $62. Apollo has a market cap of $10 billion and an EV of $9 billion, with trailing twelve month EBITDA of $1 billion. Current year earnings (ending August 09) are projected to be approximately $4.00, with estimates for fiscal 2010 in range of $4.80.
Clearly, this is not a short based on the current business model, current expected growth or earning power. The short thesis rests on some disruption of the current business model and growth rate through the DOE setting higher level of requirements for a student to qualify for Title IX funding at University of Phoenix. This in turn could have anywhere from a minor to dramatic effect on enrollment rates and revenue depending on the severity of any change. Of course, it is possible no changes occur and business goes on as usual.
|Entry||04/30/2009 07:33 AM|
It's worth reviewing the writeup(s) @ citronresearch.com on APOL. They were the first ones to bring a lot of these issues public.
|Subject||Response (pt 1)|
|Entry||04/30/2009 08:04 PM|
Allow me to shed a bit more light. The government uses Cohort Default Rates ("CDRs") to determine eligibility for Title IV funding. These cumulative default stats, measured 2 years into repayment, are misleading and understate the true nature of the default problem. It is default statistics over time that give us a clue as to whether or not tuition is too high in relation to the value of an institution's degree. The problem with using 2 year CDRs is that it's too short of a window to gauge whether defaults are really a problem. Firstly, the window isn't even a full 2 years since there is a 6 month grace period borrowers utilize and because a severely delinquent loan is not counted as a default until 270 days past due. Second, and more importantly, cumulative defaults increase dramatically and most significantly between years 2 through 6 (source: "Dealing With Debt: 1992-93 Bachelor's Degree Recipients 10 Years Later" [NCES] and own analyses). CDRs are a nearly useless indicator for a school's true default behavior and effectiveness.
Go digging through the Sallie Mae trusts' performance and you will find the real answers. You will see sky high default rates (north of 20%) on FFELP portfolios originated as recently as 2005. This is much higher than the roughly 5% national CDR reported by the DOE. The Sallie Mae portfolios encompass borrowers from both traditional and for-profit entities, so imagine what those portfolios would look like with just for-profit school borrowers. It's moving in that direction anyhow, as 7 of the top 10 FFELP school participants are for-profit schools (source: Student Lending Analytics)! You can get a sense for what the for-profit schools' lifetime cumulative default levels are here and it isn't pretty: http://ifap.ed.gov/eannouncements/attachments/120908DefaultRatesCohortYearsAttach2.pdf
For-profit schools are classified as "Proprietary" by the DOE. By the middle of 2006, the cumulative default rates for the 2002 group rose above 25% (in just 3.5 years)! Things will be worse for all cohort groups today, and especially for recent cohorts such as 2007 and 2008 given the economic environment. Ouch.
|Subject||Response (pt 2)|
|Entry||04/30/2009 08:07 PM|
The DOE, despite paying out billions on defaulted loans over the past several years, has been reluctant to respond to criticism over CDRs thus far. It is true that the DOE will move to a 3 year measurement date for CDRs beginning in 2011, and that will nearly double CDRs for a large number of schools (source: Inside Higher Ed, finaid.org). Still, it may not penalize too many offending institutions since the DOE simultaneously raised the sanction level up to a 30% CDR. A school will have to show a monumental 30% of its borrowers defaulting by year 3 to have any mandatory sanctions levied against it! Our government allows inferior schools to get loan money, much of which may never be repaid and all of which becomes a major lifetime burden on the borrower. Why is the government allowing it?
Some people argue that the borrower groups from these "universities" start out disadvantaged in certain ways, due to a higher proportion of low income and minority students. Are these schools predatory or do they offer valuable schooling to the underserved populations? Probably some of both. But I tend to believe these schools are still doing more harm than good. The default gap is just too large to be explained by the aggregate socioeconomic differences. Proprietary schools' CDRs are at least twice as high as other schools (the gap versus private schools is even higher), and I would expect similar trends in the true cumulative default statistics. Want more proof? The defaults are so high that most private lenders, including Sallie Mae, stopped lending to most for-profit school borrowers in the fall of 2008. The Fitch publication entitled "Private Education Loans: Time for a Re-Education" gives further elaboration. One of the most salient quotes was this: "both issuers [SLM and SLC] believe they have identified the main source of credit deterioration (outside of normal pressure from economic weakness) and that is: lending to students attending schools with lower graduation rates and lower average earning potential". If only we could get one branch of government (SLM) to speak to the other. Today the DOE is just about the only entity in the world that will across the board lend $30,000 for tuition to attend the University of For-Profit Scam. I'd like to believe it's unsustainable. I'd like to believe these businesses will either be forced to lower tuition and improve degree programs, or die off. But today that isn't happening. We need a catalyst for change.
|Entry||05/01/2009 10:41 AM|
We will not see the effects of the CDR calculation change until 2011 (although the numbers will represent the 2009 cohort group). At that time, if APOL has CDRs under 10% then something is VERY fishy. Keep in mind the CDR numbers we will see this year will be from 2007.
APOL can try to hide behind useless and stale CDR numbers (which are double the level of public and private non-profit schools in their own right) but the fact remains: their students are defaulting at incredibly high levels over the life of these loans. The DOE just seems to be ignoring the fact.
|Subject||RE: RE: questions|
|Entry||05/01/2009 11:26 AM|
we are on the same page. it's really fishy. combining axia with u o p was total bs and they are trying to cover up the astronomical cdr in the only student pop that is actually growing. what could be more obvious?
but where is the evidence that students are defaulting at really high rates? where do you find this data? i would not be surprised, but that is just an opinion not a fact.
|Subject||RE: RE: RE: questions|
|Entry||05/01/2009 11:52 AM|
It is a fact. Read my earlier responses. You can see the evidence in the Sallie Mae trusts and you can see it in IFAP's release. There are other places to see it as well.
University of Phoenix is the largest Title IV participant in the country. Their 10K states that they are classified as "Proprietary" under the DOE classification system. UoP is too big to buck the trend of the proprietary category, as you can see from their CDR relative to the group. IFAP's category numbers speak for themselves. Greater than 25% cumulative default levels after 5.5 years (a correction from my earlier statement that it was at this level within 3.5 years). That was for the 2002 cohort. Things will be worse for the later cohorts as the economic environment has worsened and consumers have become more debt burdened.
IFAP/DOE is forecasting lifetime cumulative default rates close to 40% for 2 year proprietary schools. UoP may have some overlap with the 4 year categories, but you get the picture.
|Entry||05/12/2009 04:35 PM|
1. APOL/UoP's CDRs are much worse than those at 4 year private schools but they are similar to or better than their community college peers. Also they are better than CDRs at 4 year HBCUs which is a bit of a closer match demographically. Isn't that the more relevant comparison? If the government should tell the for profits to die off, why not community colleges and HBCUs as well?
2. Won't the government be unwilling to do anything drastic to institutions with high CDRs (whatever they turn out to be on whatever the ultimate measurement period is) because that would cut access to education for the most disadvantaged students? Even if we say 30% ultimately don't pay back the full amount of their loan over time, 70% do, so somebody must be getting something out of their education.
3. How much of an effect would cracking down on enrollment counselors have on the business? Certainly there are for-profits that are less aggressive. Is this a short to zero idea, or are we shorting with the idea that business will be smaller and less profitable at some point? How much smaller and less profitable? As you point out it's not like the stock is sky high on traditional valuation metrics.
I'd be interested to hear anyone's thoughts/insights on these.
|Subject||RE: devil's advocate|
|Entry||05/13/2009 10:53 AM|
Just less than 50% of APOL's student body would be classified as "minority" so I don't know that a comparison to HBCUs is totally accurate. Your point about HBCU and commmunity college CDRs is an important one however.
So far the government has not gone after the for profit schools very hard because of the very reason that it would be hard to disentangle them from community colleges and HBCUs ON THE BASIS OF CDRs ALONE. And yes, some of these students are getting value out of a UoP degree (or at least finding a job that allows them to keep making their loan payments). However, there is one major difference between most community colleges and schools like UoP: profit motive.
I do not think APOL is a short to zero. There is some viable business model for continuing and technical education. It just isn't at these tuition rates and profit levels. A viable model would probably not be so heavily weighted towards general degrees like business administration. Does it make sense for APOL to have these type of margins when the government is funding the business model and taking the losses?
|Subject||RE: RE: devil's advocate|
|Entry||05/13/2009 01:30 PM|
I have been amazed by the growth & margins of the online segments of many of the public education companies, many offering just generic associates or bachelor's degrees.
CECO has been putting up 25% EBIT margins on over $600m in revenue for American Intercontinental Univeristy & Colorado Technical University. American Intercontinental was on probation for its accredation in 2006.
BPI went from a glimmer in an APOL mid-level exec's eye (backed by Warburg Pincus) to an IPO in 5 years. 2008 numbers were $218m revenue and $33 EBIT in 5 years on $63m net invested capital. ($28m to $218m revenue in 2 years). The crocodile-infested moat that allows for such mouth-watering returns? They purchased Franciscan University of the Praries in Iowa in 2005 & the Colorado School of Professional Psychology in 2007 for nominal amounts.
There appears to be a bit of a land rush on for the purchase of small, struggling liberal arts colleges which have regional accreditation (apparently superior to national accrediation). See the following article on the recent purchase of Waldorf College in Iowa by a for-prot (Columbia Southern) & Daniel Webster College by ESI.
Given the likely entry, it seems to me that this almost has to end badly. It just doesn't seem that hard to start these things. If anyone disagrees, I would be very interested in hearing why.
It is interesting that one of the fundamental factors allowing these returns is the price umbrella offered by bloated non-profit colleges which have zero incentive (and about the same level of ability) to cut costs. What are the two things in life that industrious & normally thrifty people will pay almost any price for, without blinking? Education & weddings.
|Entry||10/28/2009 02:03 PM|
Do you think this will follow the storyline of many agencies jumping on board the investigation train, and CFO resignations etc, finally culmination in Title IV problems, or are the DOE and SEC too distanced for that to happen?